The Bicentenario,one of Colombia's most important pipelines,
was paralyzed after an attack by leftist rebels last week. (Photo: Bicentenario)

Wednesday, July 16, 2014

Perspectives

Colombia Oil: Attractive Terms, Security Concern

Colombia’s security environment remains a concern for business, especially in the energy sector.

LATINVEX SPECIALControl Risks

Colombia is poised to remain one
of the most attractive destinations for oil and gas investments in South
America. Following a series of reforms progressively enacted since the early
2000s, the oil and gas sector has attracted significant investments from
players of all sizes, boosting
production and growing reserves.

In the context of policy
continuity following June’s presidential elections, as well as the prospect of
peace agreements with the Revolutionary Armed Forces of Colombia (FARC) and
National Liberation Army (ELN) guerrilla groups, the upcoming oil bidding round
Ronda Colombia 2014 cements the country’s appeal as an oil investment
destination. However, new operational hurdles have emerged and Colombia’s
security environment remains a concern for business operations, especially in
the energy sector.

MORE THAN 100 BLOCKS

The Ronda Colombia 2014 will
auction a total of 101 blocks of conventional and unconventional oil, totaling
approximately 22m hectares in 15 of Colombia’s 32 departments. The July 23 auction
includes both onshore and offshore opportunities in eight of the 23 sedimentary
basins in Colombia.

The National Hydrocarbons Agency
(ANH) has classified the offered blocks into three categories. Type-one areas
offer onshore and offshore exploration, and production opportunities in mature
sedimentary areas with conventional resources where deposits have already been
discovered. Type-two areas offer exploration and production contracts in non-conventional
continental blocks in emerging basins, as well as areas with coal-bed methane
potential. Type-three areas offer technical exploration agreements in frontier
basins with conventional onshore and offshore blocks. Type-three blocks are
located in the departments of Caquetá, Casanare, Choco, Nariño and Putumayo.

Similar to the bidding round in
2012, the contract terms for the 2014 round are attractive. However, this year
the government has added new incentives for exploration and production of offshore
and non-conventional blocks. For off-shore blocks, the threshold above which
royalties are paid will be increased from the current $45 to $82 per barrel for
deep-water. For ultra-deep-water, the threshold will be $100. Off-shore blocks
will have a nine-year exploration program, with 30 years of production under
exploration and production contracts. The same exploration program and
production years will apply to non-conventional awarded blocks. The government
expects this year’s bidding round to yield similar results to the Ronda
Colombia 2012, when 43 percent of the 115 offered blocks were awarded to 37
companies.

The government aims to attract
the needed investment to boost reserves with the added incentives for off-shore
blocks. Shifting Ecopetrol’s responsibilities from regulator and producer to
producer only in the early 2000s, alongside creating the independent regulator
National Hydrocarbons Agency (ANH) in 2003, and revising Colombia’s fiscal take
and implementing a sliding scale royalty framework all helped to increase FDI
in the oil and gas sector. As a result, FDI grew from 16 percent in 2003 to 34
percent in 2013.However, despite this progress, reserves have not grown on par
with demand. While the ANH estimates that reserves have increased 75 percent
since 2007, current reserves will only last 6.4 years at current levels of
production.

OLD AND NEW THREATS

Despite Colombia’s overall
attractiveness as an investment destination, investors bidding for the Ronda
Colombia 2014 blocks are likely to face a series of old and new operational
hurdles.

While Colombia’s internal armed
conflict has reduced in intensity over the past decade, and the likelihood of
large scale terrorist attacks and kidnappings have decreased, there has been an
uptick in attacks on oil infrastructure. For example, 104 attacks were reported
in 2005, the year with the highest number of recorded attacks between 2005 and
2009. In 2013, there were 259 attacks, a 71 percent year-on-year increase and
more than double the number recorded in 2005. Pipeline attacks are concentrated
in ten municipalities, mainly in the departments straddling the borders with
Ecuador and Venezuela. It is fundamental that investors in these areas ensure the
implementation of a proper framework for cooperation with the armed forces, as
well as mapping and engaging with local stakeholders to reduce the risk of
attacks.

Along with the old security
threat, increased concerns about the impact of the oil and gas sector, and the
extractives industry in general, have led to new time-consuming and costly licensing
processes. While the National Authority for Environmental Licenses (ANLA) was
created in 2011 to serve as a licensing one-stop shop, two and sometimes three
other agencies are involved in the granting of exploration and production environmental
licenses. The industry association Colombian Petroleum Association (ACP)
estimated that in 2012 it took on average 13.9 months to obtain an
environmental license for an on-shore site.

In addition, infrastructure
bottlenecks and corruption are likely to continue to be a concern. Pipeline
bottlenecks, due to the aforementioned attacks, among other reasons, have
forced producers to resort to tanker trucks to transport daily production. This
is not only more costly, but also contributes to tensions with communities
affected by the considerable uptick in road traffic and damage to public
infrastructure. Community unrest is also frequent surrounding local employment
creation, underlining the need for identifying and engaging the right
stakeholders for local hiring.

Although governance of the oil
and gas sector is relatively robust in Colombia compared to regional standards,
corruption persists; in particular it is fairly routine for companies to
receive demands from lower-level officials to pay a fee to expedite
bureaucratic processes. The misappropriation of royalties paid to the state also
happens frequently, though a 2012 reform and the introduction of a new General
Royalties System (SGR) has led to some headway in tackling this issue. However,
the new centralized royalties distribution system has also led to increased
tensions with communities in oil and gas producing regions, who have had to
stomach considerable decreases in the availability of royalty monies for public
spending.

ELECTIONS AND PEACE OUTLOOK

The Ronda Colombia 2014 is taking
place against the backdrop of the peace negotiations with the FARC and a recent
presidential election. However, while relevant to the overall long-term
stability of the country, the bidding round’s timeline is unlikely to be significantly
impacted by these two events.

As expected, President Juan
Manuel Santos secured reelection in the 15 June run-off vote, where he competed
against the right-wing candidate former finance minister Oscár Iván Zuluaga. The
political outlook following the elections is mostly positive for the oil
sector. Santos’ re-election means continuity in government policy, especially
in terms of the government’s broadly positive outlook on foreign investment and
investor protection. The expansion and improvement of the country’s
infrastructure, which has been a central pillar of the first Santos government,
is likely to remain a top priority for his next administration.

At the same time, continuity – to
some extent – also implies stagnation; for example key reforms that could
improve issues such as delays with licensing and other issues, are likely to
remain elusive during Santos’ second term. There is additional pressure on the
President to make concessions to the political left as part of the peace
process, and to repay the left’s support for his re-election campaign. Among
others, such concessions could include a stricter approach to environmental and
social regulation.

Santos’ re-election has also
increased the likelihood of a continuation of the peace negotiations with the
FARC and their successful outcome, as well as the commencement of formal talks
with the ELN. In the short-term, the negotiations with the FARC have seen a deterioration
in the security environment, as the group has tried to improve its bargaining
position at the negotiating table through military pressure. While such attacks
are likely to continue in the short-term, they are posed to subside in the
longer term because of the likely signature of a peace deal and the subsequent demobilization
of the FARC. However, the expected reduction in the size of the military
following an end to the armed conflict, will see companies in the sector having
to take full responsibility for the burden of protecting their industry assets.

A successful outcome to the peace
negotiations is likely to have additional operational implications, for example
through shifting dynamics in community relations. The outcome of the talks will
serve to empower local communities and facilitate the projection of community
concerns onto the national political stage. For example, controversies over
company-community prior consultations will likely attract more attention from national
politicians and the media. Furthermore, the demobilization of FARC members is
likely to boost the position of center-left politics, which in turn will
increase pressure on the government to advocate in favor of communities when
arbitrating disputes. This situation will be heightened in areas where the FARC
have had political influence for decades.